Unit 8: Tax Planning for Managerial Decisions-II - Practice Quiz

1 What is the main financial comparison in a tax-based make-or-buy decision?

2 If a deductible purchase costs $100 and the tax rate is $30\%$, what is its after-tax cost?

3 Which cost is generally relevant when a company considers making a component internally?

4 An allocated head-office cost will continue whether a component is made or bought. How should it be treated?

5 Which qualitative factor is important in a make-or-buy decision?

6 Which method is most suitable for comparing repair and replacement alternatives with cash flows occurring at different times?

7 If tax rules allow a repair expense to be deducted immediately, what is the usual tax effect?

8 How is a depreciation tax shield generally calculated?

9 Why is the original purchase cost of an existing machine usually excluded from a repair-or-replace decision?

10 Which item should be considered when an old machine can be sold after replacement?

11 Under tax rules that treat a major renovation as capital expenditure, how is its cost generally recognized for tax purposes?

12 A minor maintenance expense that does not improve an asset is generally classified as what type of expenditure?

13 What should a company primarily compare when choosing between renewing an asset and renovating it?

14 What is the usual effect of receiving a tax deduction earlier rather than later?

15 Which operational factor is relevant when comparing renovation with asset renewal?

16 Which cost is most relevant when deciding whether to shut down operations?

17 When is continuing operations generally financially preferable in the short term?

18 A fixed cost will continue even if a factory temporarily shuts down. How should it be treated?

19 Which item should be included when evaluating a shutdown decision?

20 Which qualitative consequence may result from shutting down operations?

21 A component can be made using variable costs of ₹60 and avoidable fixed costs of ₹12 per unit. Making it also uses capacity that could earn a taxable contribution of ₹10 per unit. The supplier's price is ₹78 per unit. All operating costs are deductible, and the tax rate is 30%. Which decision is financially preferable?

22 The pre-tax cost of making a part is ₹82 of variable cost and ₹13 of avoidable fixed cost per unit. The purchase price is ₹105 per unit. Unavoidable depreciation of ₹9 per unit is allocated to production. If the tax rate is 25% and all relevant costs are deductible, what should the company do?

23 Making a component requires deductible cash costs of ₹70 per unit and the use of a machine that could be sold immediately for ₹40. The machine's tax basis is ₹25, and the tax rate is 30%. Buying the component costs ₹115 and is fully deductible. What is the better decision?

24 A company can make a batch for a deductible operating cost of ₹90 and must purchase equipment for ₹20. The equipment qualifies for an immediate 100% tax deduction. Alternatively, the batch can be purchased for ₹108, which is also deductible. At a 30% tax rate, which option is preferable?

25 A component can be manufactured for a deductible cost of ₹72 per unit. An imported component costs ₹68 plus deductible import duty of ₹8 per unit. The tax rate is 25%, and no capacity opportunity cost exists. What is the correct decision?

26 Repairing a machine costs ₹45 now and requires deductible maintenance of ₹18 at each year-end for three years. Replacing it costs ₹110 now, qualifies for an immediate tax deduction, and requires deductible maintenance of ₹5 annually for three years. The tax rate is 30%, the discount rate is 10%, and the three-year annuity factor is 2.4869. Which alternative has the lower after-tax present value cost?

27 An old machine with a tax basis of ₹30 can be sold for ₹24. A new machine costs ₹100 and provides straight-line tax depreciation of ₹20 annually for five years. The tax rate is 30%, the discount rate is 10%, and the five-year annuity factor is 3.7908. What is the new machine's net relevant present cost before operating savings?

28 A major repair costs ₹60 today but must be capitalized and depreciated equally over three years for tax purposes. The tax rate is 30%, the discount rate is 10%, and the three-year annuity factor is 2.4869. What is the after-tax present value cost of the repair?

29 Replacing a machine will generate pre-tax operating savings of ₹28 per year for four years. It will also create additional tax depreciation of ₹10 per year. If the corporate tax rate is 25%, what is the annual after-tax incremental cash flow from replacement?

30 A company spent ₹25 last year attempting to repair a machine. It must now choose between another repair costing ₹40 or a replacement costing ₹95. Which treatment of the earlier ₹25 is appropriate for the decision?

31 Routine renewal work costing ₹20 is immediately deductible, while structural renovation costing ₹20 must be depreciated equally over five years. Both provide identical benefits. At a 30% tax rate and a 10% discount rate, with a five-year annuity factor of 3.7908, how much lower is the present value cost of routine renewal?

32 A building renovation costs ₹200 and is depreciated equally over ten years for tax purposes. If the corporate tax rate is 30%, what annual tax shield does the renovation generate?

33 Renewing a facility lease requires an immediately deductible payment of ₹90. Renovating an owned facility costs ₹120 and is depreciated equally over four years. The tax rate is 25%, the discount rate is 10%, and the four-year annuity factor is 3.1699. Which option has the lower present value cost?

34 A renovation is expected to produce annual pre-tax energy savings of ₹40 and additional annual tax depreciation of ₹20. If the corporate tax rate is 25%, what annual after-tax cash benefit should be used in the evaluation?

35 Routine renewal costs ₹50 today and is deductible, but the company cannot use the deduction until one year later because it currently has a tax loss. If the tax rate is 30% and the discount rate is 10%, what is the present value of the renewal's after-tax cost?

36 Continuing a division for one year will generate revenue of ₹150, variable costs of ₹90, and avoidable fixed costs of ₹30. Unavoidable fixed costs of ₹20 will be incurred under either decision. Shutting down requires a deductible closure payment of ₹8. At a 30% tax rate, what is the advantage of continuing?

37 A unit will earn revenue of ₹100 but incur variable costs of ₹85 and avoidable fixed costs of ₹25. Its operating loss can immediately offset other taxable profits. Shutdown requires a deductible payment of ₹4. If the tax rate is 30%, which choice is preferable?

38 If a plant closes now, its asset can be sold for ₹70. Its tax basis is ₹50, and the tax rate is 30%. If operations continue for one year, the plant will generate an after-tax cash flow of ₹10 and can then be sold on the same tax terms. At a 10% discount rate, which decision is preferable?

39 Continuing during a temporary downturn will cause a deductible operating loss of ₹20. Temporary shutdown and later restart will require deductible costs totaling ₹30. Assume all cash flows occur at the same time and tax savings can be used immediately. At a 30% tax rate, what should the company do?

40 Continuing operations causes a cash loss of ₹12 today, while shutdown costs ₹8 today. Either loss creates a tax deduction usable in two years. The tax rate is 25% and the discount rate is 10%. Which decision has the lower present value cost?

41 A company needs 10,000 units of a component annually. Internal production requires variable cash cost of $18 per unit and avoidable fixed cash cost of $90,000 annually. The related machine has annual tax depreciation of $120,000. Purchasing costs $20 per unit. All operating costs are tax-deductible, the tax rate is 30%, and the company has sufficient taxable income. Which decision is financially preferable based on annual after-tax relevant costs?

42 A component can be made for variable cost of $32 per unit plus avoidable fixed costs of $40,000 annually. Buying 8,000 units costs $38 per unit. The manufacturing capacity released by buying can produce another product generating contribution of $12 per unit. The tax rate is 25%, and all stated amounts are deductible or taxable in the same period. What is the correct decision?

43 A company must obtain 15,000 units of a part. Making costs $24 per unit plus avoidable fixed costs of $60,000. Buying costs $29 per unit. Buying would release capacity for a product with contribution of $10 per unit. The company has tax loss carryforwards that will expire unused at year-end, so current tax deductions create no tax benefit. Which alternative maximizes current cash flow?

44 A division currently makes 20,000 units at a variable cost of $16 per unit and avoidable fixed costs of $110,000. A supplier offers the units for $19 each. If the division buys, a machine can be sold immediately for $70,000, although its tax book value is $100,000. The tax rate is 30%, and the machine sale loss is immediately usable. Ignoring financing effects, what is the first-year advantage of buying?

45 A firm makes 12,000 units of a component at a variable cost of $26 per unit and avoidable fixed costs of $75,000. Buying costs $31 per unit. If buying releases capacity, the firm can earn an additional contribution of $8 per unit. The tax rate is 30%, and all relevant amounts affect taxable income immediately. What is the after-tax advantage of buying?

46 An old machine has a tax book value of $80,000 and can be sold now for $50,000. Repairing it costs $90,000 immediately and permits three more years of operation. Replacing it costs $360,000 and eliminates $140,000 of annual pre-tax operating costs compared with repairing. The replacement is depreciated straight-line over three years with no residual value. The tax rate is 30%, the discount rate is 10%, and the old machine has no remaining depreciation deductions. What is the approximate NPV of replacing rather than repairing?

47 A machine can be repaired for $45,000 and retained for three years. A replacement costs $180,000, requires two months of downtime causing $50,000 of lost contribution, and can be sold for no residual value after three years. The old machine can be sold immediately for $20,000, although its tax book value is $40,000. Replacement operating savings are $60,000 annually, and the replacement is depreciated straight-line over three years. At a 12% tax rate of 30%, what is the preferred choice?

48 Repairing an existing machine costs $150,000 immediately and creates no additional depreciation. Replacing it costs $600,000, is depreciated straight-line over five years, and reduces annual pre-tax operating costs by $110,000. There are no disposal proceeds, and the old machine is fully depreciated. At a 30% tax rate and a 12% discount rate, what is the approximate NPV of replacing rather than repairing over five years?

49 A company is deciding whether to repair or replace equipment. Repairing costs $70,000 now and results in annual operating costs of $210,000 for four years. Replacing costs $280,000 now, has annual operating costs of $125,000, and will have an after-tax salvage value of $30,000 at the end of year four. The replacement is depreciated for tax purposes at $70,000 annually. The tax rate is 25% and the discount rate is 10%. What is the approximate NPV of replacing rather than repairing?

50 A machine has an original cost of $500,000 and accumulated tax depreciation of $350,000. It can be repaired for $100,000, or replaced for $420,000. The old machine can be sold for $120,000. Replacement reduces annual pre-tax maintenance costs by $90,000 for four years and has an after-tax terminal value of $40,000. The replacement receives straight-line tax depreciation over four years. With a 30% tax rate and a 10% discount rate, which conclusion is most accurate?

51 A company can renovate a facility for $600,000, generating annual pre-tax savings of $180,000 for five years. The renovation is capitalized and depreciated straight-line over five years with no residual value. Renewing the existing arrangement has no initial cost and provides the current operating benchmark. At a 30% tax rate and a 10% discount rate, what is the approximate NPV of renovating relative to renewing?

52 A renovation costs $400,000 and is depreciated over eight years. After four years, its tax book value will be $200,000 and its expected sale value is $180,000. The renovation generates annual pre-tax savings of $120,000 for four years. At a 30% tax rate and a 12% discount rate, what is the approximate NPV of renovating?

53 A company can renew a lease at annual rent of $130,000 for five years, with rent fully deductible for tax. Alternatively, it can renovate its own facility for $500,000. The renovated facility has annual operating costs of $30,000, while the renewed lease has no separate operating cost. Renovation is depreciated straight-line over five years. At a 25% tax rate and a 10% discount rate, which option has the lower present cost?

54 A lease renewal requires an immediate deductible payment of $120,000 and annual deductible rent of $100,000 for four years. Renovating the facility requires $300,000 immediately, annual deductible upkeep of $30,000, and straight-line tax depreciation of $60,000 annually for four years. At a 25% tax rate and a 10% discount rate, which alternative has the lower present after-tax cost?

55 A company can renew a facility contract by paying $100,000 immediately and $90,000 annually for five years. Alternatively, it can renovate for $360,000, receive a non-taxable renovation credit of $36,000 immediately, and incur annual deductible upkeep of $20,000. Renovation is depreciated straight-line over five years. At a 30% tax rate and a 10% discount rate, which alternative is financially preferable?

56 Renovating now costs $420,000 and creates annual after-tax savings of $95,000 for four years, but it eliminates a $50,000 tax deduction that would otherwise be available from renewing the current arrangement. If renovation is delayed one year, the cost rises to $450,000 and the annual savings period falls to three years. At a 10% discount rate, which timing is preferable, ignoring terminal value?

57 A division generates contribution of $500,000 annually and incurs avoidable fixed costs of $420,000 and unavoidable allocated fixed costs of $100,000. Shutting down immediately requires a deductible closure cost of $60,000. The tax rate is 30%, and the company has sufficient taxable income. Which decision maximizes annual after-tax cash flow?

58 A loss-making segment generates contribution of $200,000 and has avoidable fixed costs of $260,000. Unavoidable fixed costs are $90,000. Permanent closure costs $30,000 and are tax-deductible. The company has enough other taxable income to use all tax deductions. At a 25% tax rate, what is the correct decision?

59 A segment earns contribution of $800,000 and has avoidable fixed costs of $620,000. Allocated unavoidable fixed costs are $240,000. Closing the segment costs $100,000, and no alternative use of the capacity exists. At a 30% tax rate, assuming closure costs and operating results affect taxable income immediately, what is the after-tax advantage of continuing?

60 A plant generates monthly contribution of $300,000 and incurs monthly avoidable fixed costs of $220,000. A temporary three-month shutdown would incur closure costs of $40,000 and restart costs of $70,000. All amounts are tax-deductible or taxable immediately, the tax rate is 30%, and discounting within the three-month period is ignored. Which option is financially preferable?